The Securities and Exchange Commission on Thursday issued an order creating a regulatory pathway for certain exchanges to issue tokenized representations of public trades in U.S. stocks, effective immediately.
The so-called Innovation Exemption provides certain trading platforms and liquidity providers with the necessary regulatory relief to facilitate tokenized stock trading, as long as they meet certain conditions. Two of these requirements have emerged as major points of contention in the investment community. Holders of equity tokens must retain the same rights as traditional equity ownership, and companies must be able to object to their securities being represented as tokens.
The long-awaited move by securities regulators comes two days after the Clarity Act, cryptocurrencies’ most important push for regulatory certainty, failed to pass in the Senate. The Cryptocurrency Market Structure Bill would establish clear rules on how digital assets, including tokenized securities, should be classified and regulated. Currently, the SEC is seeking to define its regulatory boundaries through existing authority.
“The innovation exemption is designed to address the challenges that prevent responsible innovation from taking root in the United States, while providing investor protection and market integrity standards,” SEC Chairman Paul Atkins said in a statement.
Although not a formal rulemaking, the five-year exemption is intended to open up market activity that could inform the final rule and perhaps help Congress determine whether new legislation is needed. This is part of the agency’s Project Crypto initiative, launched last year to bring America’s financial markets on-chain.
“The commission is not trying to solidify today’s technology as tomorrow’s standard,” Atkins said. “Instead, we are allowing the market to evolve, monitoring its development, and using that insight to inform a more agile and future-ready regulatory framework.… Importantly, this interim measure must be followed by permanent rulemaking to ensure on-chain markets remain a viable pathway as capital markets continue to evolve.”
Given the potential of blockchain technology to improve the accessibility and liquidity of financial assets overall, tokenization – the process of issuing publicly traded securities, real-world assets, or other forms of digital representation of value on blockchain networks – has become a topic of great interest in the market.
coinbase, robin hood, gemini Payward’s Kraken exchange has started offering tokenized stocks offshore, but not yet to U.S. customers.
Increased adoption of tokenization has the potential to change the way securities are traded and settled, enabling 24/7 trading and allowing tokenized assets to be more easily integrated with blockchain-based financial infrastructure.
However, there are also potential drawbacks, such as increased volatility and greater exposure to large price changes when trading activity is low.
Thursday’s innovation exemption includes quantity limits to mitigate potential risks and large fluctuations.
stocks with different names
As companies increasingly consider tokenizing their stocks and other assets, the push raises questions about what rights tokens should actually be offered to holders. The debate centers on whether investors should receive the same economic and shareholder rights as traditional stocks, especially voting rights.
The issue became more vivid after a public spat between Robinhood and AMC’s CEOs over Robinhood’s stock token model. AMC CEO Adam Aron argued that by creating exposure to AMC stock without the involvement of the issuing company, Robinhood and other companies that enable this practice undermine the traditional relationship between companies and their shareholders.
The new innovation exemption states that equity tokens must provide their holders with the same rights and privileges as traditional securities, such as the right to receive dividends and vote.
Companies can object and prevent their security from being traded as tokens. According to an SEC spokesperson, trading platforms must notify companies of their intent to tokenize their shares and wait 30 days after companies receive the notification to begin trading their tokens. If the company objects within that 30-day period, the trading venue will not be able to make the tokenized shares available for trading, he added.
Despite the concerns, the spokesperson said the commission is in consultation with issuers and there is increasing optimism about the potential of tokenization, with feedback from the issuer community suggesting the technology will be adopted in some form.
Robinhood announced this week that it is currently working to address these concerns. The company plans to allow equity token holders to exchange their tokens for underlying shares on a 1:1 basis for additional voting rights.
